Thus far we’ve discussed incorporation issues, proper qualification of export property, the calculation methodology by which the commission is derived and businesses in industries that have traditionally not taken advantage of the savings available through the IC-DISC benefit. But once we’ve made the benefit available to our clients, additional concerns need to be addressed, including:
- What happens after an IC-DISC is properly incorporated?
- What happens after qualification is properly completed using an optimal calculation method?
- How do we ensure that the IC-DISC adheres to the requirements laid out by § 991?
Much like a new car needs continual care and regular oil changes, an IC-DISC must be maintained in order to provide the greatest value. In this post, we will provide clarity on the requirements for properly maintaining a DISC throughout the tax year.
Fortunately, Internal Revenue Code, § 991 provides clear guidance on what is required for the IC-DISC to maintain its status. As previously noted, an IC-DISC must first be incorporated and meet all of the attendant requirements under IRC §992. This is a critical and, at times, tricky process, and the IC-DISC cannot start generating benefit until this step is complete. Once the incorporation has occurred, the IC-DISC must be able to pass several tests in order to ensure continued operation.
First, the export incentive must be able to pass the gross receipts test. Specifically, during the taxable year, at least 95% of its gross receipts must be attributable to qualified export receipts. Since the qualified export receipts generate the commission to be paid into the IC-DISC, it is crucial that the qualification and calculation are done correctly.
Second, the assets test must be satisfied during the taxable year. In order to past this test, the adjusted basis of the qualified export assets at the close of the year must equal or exceed 95% of the sum of the adjusted bases of all assets of the IC-DISC.
Third, the IC-DISC must be properly capitalized for the taxable year. This requirement states that a corporation must have only one class of voting stock and a par value of at least $2,500 for each day of the taxable year. In addition, the law of the state of incorporation of the DISC determines what type of consideration may be used to capitalize the DISC. As such, the capitalization requirement relies heavily on the incorporation process being handled properly.
Fourth, an election to be treated as a DISC must be made by the corporation pursuant to the requirements of IRC §992. While this may seem like a passive requirement, it is not. The corporation must satisfy these requirements for each taxable year that the benefit is derived. In addition to making the election to be treated as an IC-DISC for taxation purposes, the corporation must also maintain books and records separate from the related supplier.
Fifth, and last of all, the corporation cannot be an ineligible corporation. These include corporations exempt from tax, personal holding companies, financial institutions, insurance companies, regulated investment companies, China Trade Act corporations, electing small business corporations and foreign sales corporations. Each of these types of entities has very specific rules and requires a detailed analysis to determine if the entity type the corporation is attempting to incorporate is eligible. This requirement is another possible pitfall area in which there is a right way and a wrong way to handle the incorporation process.
While adhering to these requirements can be complex, utilizing a professional who specializes in this area can allow a business to gain a competitive edge in this highly competitive economy. With proper guidance and vigilant maintenance, the IC-DISC can be an excellent tool for businesses engaging in export sales.